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Scotland decides ‘we are better together’

Nick Newton

22nd September 2014

Following the historic referendum result announced this morning, UBS has circulated the below reaction, which you may find informative.

The Scottish public has voted to remain part of United Kingdom, ending weeks of uncertainty.

Market implications

The British pound – stay overweight. From here, we believe that the market focus will shift back to the macroeconomic strength of the UK economy and consequently to the future monetary policy of the Bank of England (BoE).

As the UK remains one of the fastest growing major economies globally, we expect the BoE to be the first major central bank to raise interest rates in coming months. With this is in mind, we stick to our

Overweight position in the British pound against the Swiss franc.

UK equities – stay underweight. In our view, equity markets were partially discounting a Yes outcome. Therefore, we believe there could be a small relief rally in the UK equity market over coming days. In particular, the most heavily Scottish exposed stocks, such as the banks, utilities and energy, could see some reduction in their risk premiums. However, we expect the rebound to be relatively muted and short-lived.

We remain underweight the UK equity market given its weaker earnings trends, in part due to the drag from the strong pound. The highly international index generates over 75% of its revenues outside the UK.

For investors holding strategic UK equity allocations we recommend tilting toward Value, which typically fares well in the months ahead of an interest rate hike.

The economy

It should be a return to business as usual for the UK. Leading indicators still point to the economy growing strongly in the second half of this year, unemployment should fall further and wages should start to rise. In our view this should be enough to encourage the BoE to raise interest rates at some point in the fourth quarter.

Politics and policy

With the Scottish question passed, for the time being at least, the focus for the UK political parties is now likely to turn to the 2015 General Election, scheduled for 7 May. The campaigning will begin with the party conference season, which takes place in the last weeks of September and early October. In addition to this, we expect that a significant amount of parliamentary time will be taken up formulating the terms of Scottish devolution, but this is unlikely to detract from the government’s stated aims of deficit reduction, for the remainder of this parliament.

Long term outlook

The result is a fairly clear “no” to independence. But even in the absence of further calls for independence, Scotland’s relationship with the rest of the union and the political landscape of the UK has certainly been altered. With more powers likely to be devolved to Scotland, questions about the authority of Scottish MPs to vote on matters concerning the rest of the UK will likely be raised and this could influence the direction of fiscal policy over coming years.

If the Labour Party were to gain a narrow majority at the next general election, with a high proportion of their MPs in Scottish constituencies, this could mean that they do not have the ability to legislate on matters relating to the rest of the UK. There is a risk that this could lead to a period of policy paralysis until such questions are resolved.